Bitcoin ETFs – Cash-backed Vs. Physical: How Will They Impact the Market?

The crypto space is fixated about the potential for a Bitcoin exchange traded fund (ETF) to launch, with many speculators, experts, and enthusiasts saying that a Bitcoin ETF could spark the next major Bitcoin rally.

But whether a Bitcoin exchange traded fund is backed with cash or actual Bitcoins, i.e. “physical,” makes all the difference between an ETF being a good or bad thing for the Bitcoin market. Here, we’ll explore the difference between cash-backed and physical Bitcoin ETFs.

Physical Bitcoin ETFs

The Bitcoin ETF that garnered the most attention in 2018 was the VanEck SolidX Bitcoin ETF, and this is perhaps because it is backed by actual Bitcoins rather than cash.

Despite 1,400 favorable comments from the public, the U.S. Securities and Exchange Commission has repeatedly delayed its decision on the VanEck SolidX Bitcoin ETF, and it seems possible that this ETF will eventually be rejected. In-fact, numerous Bitcoin ETF applications have been sent to the SEC, and all of them have been rejected.

If a physical Bitcoin ETF like VanEck SolidX were approved, it would likely be a good thing for the Bitcoin market. Since a physical Bitcoin ETF is backed by actual Bitcoins, when people invest in a physical Bitcoin ETF, it would increase Bitcoin’s spot demand and spot price.

This effect could be quite significant since a physical Bitcoin ETF approved by the SEC would be available on major stock trading platforms and make it easy for stock, bond, and precious metals investors to diversify a percentage of their portfolios into Bitcoin.

Considering that there are tens of trillions of dollars in the global financial markets, even a minute percentage of portfolios being diversified into Bitcoin via a physical Bitcoin ETF could cause a major Bitcoin rally.

Cash-backed Bitcoin ETFs

The evil cousin of a physical Bitcoin ETF is a cash-backed Bitcoin ETF such as the Direxion, Proshares and Graniteshares ETFs that were rejected by the SEC in August. At the time, these ETFs were rejected several crypto news outlets painted this as negative news when it was in-fact positive news.

A cash-backed Bitcoin ETF could be catastrophic for the Bitcoin market, especially if it is approved before any physical Bitcoin ETF is approved. This is because cash-backed Bitcoin ETFs essentially print paper Bitcoins, and that artificially inflates the Bitcoin supply, which can apply downward pressure on Bitcoin’s spot price. This is similar to how the Bitcoin futures on the Chicago Mercantile Exchange (CME) are cash-settled and are therefore paper Bitcoins. CME Bitcoin futures have been catastrophic for the market.

A more direct impact of a cash-backed Bitcoin ETF is that it would divert investment away from the spot markets. There could be tremendous capital invested into a cash-backed Bitcoin ETF, and it would do nothing to increase Bitcoin’s price. It would actually cause Bitcoin’s price to be lower long term since investors would buy the cash-backed Bitcoin ETF instead of actual Bitcoins.

So a Bitcoin ETF is a double edged sword. A physical Bitcoin ETF could be quite beneficial for the market while a cash-backed Bitcoin ETF could be poison. Crypto investors, traders, speculators, and enthusiasts must be aware of this when commenting on these to the SEC or interpreting news about them.